5 Solid Ways to Avoid an Early Withdrawal Penalty for Your IRA

If you have an IRA, you probably know that withdrawing before you are 59.5 is a no-no. This is because you will be hit with a 10% penalty for early withdrawal. However, there are some ways you can avoid the 10% penalty. The IRS (in publication 590) offers a number of exceptions to the rule. Here are 5 of them that you should definitely know about:

1. Disability

If you are disabled, you can take early withdrawals from your IRA. Normally, this is done so that you can supplement income lost because of your disability. In order to qualify, your disability must be expected to last for an indeterminate amount of time — or result in your death. You may need certification from a physician in order for the custodian of the IRA to approve the withdrawals without penalty.

2. Higher Education

You can take early withdrawals to help you pay for college. You can also take an early withdrawal to help your spouse or children pay for a higher education. Before you withdraw your money, though, make sure that the recipient of the funds is attending an approved institution. You can use the money for tuition, books, fees and supplies.

3. Medical Costs

Depending on your situation, you might be able to sidestep the 10% early withdrawal penalty if you use money in your IRA to pay for medical expenses. There are some fairly strict guidelines associated with this, though. You can only withdraw the money to cover expenses that are not covered by health insurance. Additionally, you can only withdraw the difference between the amount that’s not reimbursed and 7.5% of your AGI.

You can also get help to pay for your health insurance. But this only works if:

You lost your job.

You have received unemployment for at least 12 weeks in a row.

You took the distributions during the year you received your unemployment benefits, or the following year.

You take the distribution no more than 60 days after becoming re-employed.

Make sure to carefully consider your situation before withdrawing money early from your IRA to cover medical costs.

4. First Home

If you are buying your first home, you can withdraw money early from your IRA without penalty. You can do this whether you are buying, building or rebuilding. But it is very important that you qualify as a first time home buyer. This means that you cannot own a home for two years before you purchase. And you must be moving into a main residence — not getting a second or third home.

5. Inheritance

When you receive IRA assets as part of an inheritance, you can withdraw without penalty. However, you should understand that a spouse choosing to rollover the amount into a non-inherited IRA does not get the same good treatment. Make sure you properly document the transaction so that you are not charged the penalty.

Should You Withdraw Early?

Even if you can take an early withdrawal from your IRA, it is not always the best idea. Once that money is out of the account, it is no longer earning compound interest and working for you. Consider other options, if possible, before your withdrawal. Carefully contemplate the situation, and then determine whether it is truly a good idea to take an early withdrawal.

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You can also avoid the 10% penalty if you are laid-off in the year you turn 55. If you are laid-off when you are 54 and your 55th birthday isn’t until Jan1 or after of the following year you are out of luck even if you are still unemployed. Clearly not the intent of the law, but nonetheless the reality.

Question on the 1st time homebuyer option. I always understood it to be a 3yr waiting period from when you last owned a home to be once again considered as a 1st time buyer. In your article, you state that it is 2yrs? Is there a way to find a definate answer on this?

The IRA rule is 2 years: Neither you nor your spouse can have owned a principal residence in the last two years. I think you are thinking of the first time homebuyer rule for the tax credit that was offered not too long ago. That rule is three years. Whenever you have different programs, you have different eligibility rules. There is no “standard” definition that applies to all situations. You have to take each situation separately, and it can help to consult with a financial professional (which I am not).

My mother is in a nursing facility and it is uncertain whether she will be able to return home. I have been a primary caregiver and lived with her in her home, my brother and family live in an adjacent home. Both are owned by my mother. If additional nursing home care is required and monies are exhausted I would like to withdraw funds to equal the value of my brother’s home so that we would not have to sell or lose the property. What options are available?

Or you could do like my investment advisor, Jon Sanchez, did for me and get a 20% early withdrawl with no penalities on Cole Property Trust II (IRA). Only trouble is the money went into Cole’s pocket and not mine.

You can also avoid the 10% penalty if you are laid-off in the year you turn 55. If you are laid-off when you are 54 and your 55th birthday isn’t until Jan1 or after of the following year you are out of luck even if you are still unemployed. Clearly not the intent of the law, but nonetheless the reality.

You should definitely double check if you already work with an accountant. Many seem to interpret the tax code differently and as long as the advice came from your accountant, he/she will at least own up to it if the IRS ever questions your action.

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